BUGS SHOULD NOT GIVE UP ON GOLD YET

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AS GOLD fell sharply last week while the dollar rose, it attracted a chorus of I-told-you-so critics who pointed to gold’s rapid decline as proof that the metal was a poor source of safety in times of market turbulence. In the short term, the critics are correct. At present the dollar, not gold, is the prime safe harbour asset. But traders with a longer term horizon should not forget about the power of gold.

As I’ve written several times in the past, the function of secular bull markets is to constantly shake out the weak longs. An old Wall Street adage says that “bull markets climb a wall of worry”. Recently, no asset has been more successful at generating “worry” than gold.

Despite claims to the contrary, bullish sentiment towards gold is hardly extreme. In fact, the average investor remains blissfully underinvested in the asset, dismayed by the rollercoaster-like price movements. But ignoring the short-term volatility, the inexorable long-term trend in gold over the past decade has been up.

Indeed, I believe gold remains a buy unless it breaks support at $850 an ounce. For those long of the metal, that means a very wide 20 per cent stop, which may be too much to bear and is precisely the reason why staying invested in long-term trends is more difficult in practice than in theory.

More speculative traders, however, could take another approach. I believe that gold has yet to enter its parabolic phase. In short, if gold rises to $1,300 this year it will very quickly move to $1,500 or beyond. If gold does spike to those levels, it would only be as a result of market concerns over the state of US fiscal deficits. If that is the case, gold will become the primary store of safety, not the dollar.

Therefore, speculative investors may want to wait for the breakout to occur before jumping on the trend – a strategy that could protect them from being caught in any painful correction as gold bides its time.

Boris Schlossberg and Kathy Lien are directors of currency research at GFT. Read commentary on currencies at www.GFTUK.com/commentary or e-mail them at borisandkathy@gftuk.com.